Gamestop Will End in Tears; But Who Exactly Will Lose?

27 Jan 2021

GME has been the craziest stock in the US market in recent weeks. What exactly is going on? Yesterday the stock went up 90% and aftermarket it went up another 40% to about $209 dollars per share. Before the open today, this is what investors should know:

The Stock started 2021 around $17-$18 USD per share. Since 2015, the stock has been slowly declining every year, because Gamestop is a bricks and mortar video game retailer in a world where Sony, Microsoft MSFT, and other big video game developers are distributing their games via the cloud.

For years, short sellers have been making money on this stock as it's revenues and profits have been steadily declining since 2015:

In 2015, the company had $9.2 billion USD in revenues, but by 2020, total revenues had declined to $6.4 billion USD. Profits had also sharply declined from about $400 million USD in 2015 to a loss of about $460 million USD in 2020.

So why has the stock risen so much?

Basically, at the beginning of this year, major financial media outlets had noted that GameStop was the most shorted stock in the US markets and that the short interest was near 100%. One commentator on CNBC even stated "going into 2020, shorting GameStop was like shooting fish in a barrel."

BUT, forums started springing up on Reddit and other sites where large groups of retail investors started to challenge the shorts and bid up the price, in the hope that they could force the short sellers into a "SHORT SQUEEZE." What's a short squeeze? It's when the price of stock goes up so fast that the short sellers have to cover their losses by buying the stock as the price rises, causing the price to go up even higher. This happens because after selling short, the short seller has to buy back the shares at some point. If the price keeps rising, the short seller's broker will force them to buy back the shares that were sold short in order to limit losses. It already looks like there was a short squeeze yesterday, the question is whether the short squeeze will continue, or if Gamestop will fall back to earth.

So who are the shorts? The most famous are a bunch of Hedge Funds, most famously Melvin Capital. This fund is known for being spectacularly skilled at shorting, and backed by Point 72, that's Steven Cohen's family office and Citadel, the well known market maker and quant fund. Melvin is known as one of the biggest institutions shorting GameStop, but they are just one fund of many.

At the beginning of the year, according to media reports, Melvin had $12 billion in Capital, and last year the fund made 50% gain. But by this Monday it had lost 30% of its capital due to GameStop and other short positions surging in price.

Where do we go from here?

On Monday, GameStop closed at around $77 dollars. Yesterday it closed at $147 and it's up another 40% aftermarket. So Melvin is feeling the pain.

But, according to the Wall Street Journal, on Monday Melvin just got a $2.7 billion dollar cash injection from Citadel and Point 72 at these funds are trying to stabilize it. And the media is reporting that next week Melvin will probably get another $1 billion dollar cash injection.

There are two possible outcomes here:

1. The retail crowd might want to take some profits after the huge price runup. If this happens, the stock of GameStop could collapse and Melvin & Co. will get a big profit. Because at the end of the day, remember, Gamestop is a money losing company that doesn't have good prospects, and its present valuation is shall we say politely, "frothy."

2. The price keeps going up and Melvin and other funds are forced to cover their shorts at an immense loss. Or they are unable to cover the shorts at all because they lack sufficient capital. If this happens, the funds could lose everything, and even the brokers that manage their accounts could be on the hook for the losses. In a worse case scenario it's a catastrophe for any institution involved.

What do you think will happen? Leave a comment! Now the reddit crowd is talking about movie theatre chain AMC and retailer BBBY

This article is brought to you by Tiger Brokers, a leading online brokerage that has partnered with TradingView to provide US markets brokerage services to TradingView clients in Singapore and Malaysia. Tiger Brokers is a subsidiary of Nasdaq listed:TIGR ).